Interview with Tyler Cowen, pay-as-you-wish restaurants

This article is from Salon.com, I will reproduce the interview under the fold...

To find out if the pay-what-you-can model could work for a restaurant, Salon spoke with Tyler Cowen, a professor of economics at George Mason University (and food writer), from Berlin, Germany.

Do you think this pay-what-you-can model could actually work for restaurants?

You can have a small number of restaurants that use it, but if every restaurant were like that, it would never work. It gets people talking. It's like Radiohead — for the first group that does it, it's a good idea, but is it a good model for the industry? Not really. Imagine McDonald's at Times Square working on this principle. If you kept on going or eating they would discourage you from coming.

Do you think it could work on a small scale — two or three restaurants in a city?

I'm not even sure it can in the long run. I'm not sure if these places will still be going in three years' time. Part of the problem is if you're a customer and what you pay is voluntary, you're under pressure to pay a lot of money. You do it once to prove to yourself and others how charitable you are, but how many people go back 17 times? I would find it a burden — my reputation is on the line. What if I only pay $ 27 instead of $ 34? What does my date think? What does my wife think? You end up wanting to feel liberated and just paying a listed cash price. I think there's no way to solve that problem.

But Radiohead's experiment was fairly succesful. What's the difference between it and a restaurant?

With Radiohead, there's a focal price of about $10, which is pretty cheap. If you download an album and send in $10, you feel you've done your bit, and it's not a question of repeat business. You download the album once. Radiohead makes most of its income by touring, so even if they lose money on the album, but get more popular, they can just go on tour. A restaurant has no other way to get that money back. They count on the people to pay for their food.

Is there anything that these restaurants can do to encourage people to pay more?

You have to feel like you're being watched. You have to feel that other people are paying. You have to feel like you're part of a cool experiment. Even with Radiohead. it's wrong to call them neighborly, but their fans pretend they're a tight-knit pool of cool people. That's an illusion, but you're still relying on a peer effect. It's a way to feel you're better — that you're so committed to the band you paid for something out of your own pocket.

Are some sectors of the economy better suited to this kind of pay-what-you-can model?

It depends on what you mean by giving things away for free. There's plenty of stuff that gets given away for free, like NPR. But once NPR's content is produced, it doesn't cost them extra to have additional listeners. With restaurants, if somebody eats another plate of veal, it costs them money. It'll keep this strategy limited. There may be some niche on a small level for these kinds of restaurants, but it's hard to imagine people saying that they've been to six of these restaurant and they're about to go to their seventh.

Why are these restaurants popping up now?

I'm actually not surprised you see them in down economic times. You let some people pay less that can't pay more — it's part of the charm. But these days there's a restaurant for every possible cuisine, and so many marketing tricks. Restaurateurs are exploring every last possible idea. If you were opening a restaurant in 1957, you could do almost anything beyond steak and potatoes and be considered new, but if it's 2010 and you're across the street from the Malaysian place with roller skates, it makes some sense.

It seems like a place with two or three suggested price tiers would satisfy most of your objections. Sure it would complicate the menu a little, but I imagine with intelligently selected prices, the restaurant could increase revenue.

To improve this effect further, each tier could each be associated with a different color. The color of the receipt would match the tier price you paid – imagine the signaling power of receiving a receipt with the color of the highest tier!

There’s a restaurant in Perth (west coast of Australia) that’s been doing this for a decade and it’s still going.

“You have to feel like you’re being watched” – that’s exactly it. The restaurant in Perth “is largely run through the work of voluntary staff that includes mothers and grandmothers … It is guided by the inspiration of a monk, Swami Shantanand Saraswathi, disciple of Swami Sivananda of Rishikesh.” Everyone I know overpays because who wants to feel like they are rorting volunteer grandmothers?

Punk rock shows often operate on a ‘suggested donation’ model. I have noticed that the shows where someone actually comes around verbally asking for 5 dollars or whatever do a lot better than ones where they pass a jar. Again, you have to feel like you’re being watched (or more specifically, you have to feel like the people watching know how much you are paying).

We started this experiment in Berlin back in the Nineties. They were called “Weinerei” as in Wein, German for wine. They offered a certain menu and different wines, all of medium to better quality and in the end you threw some money (around 2001/2002, when I used to frequent these venues we used coines, not notes, or sometimes a 5Euro-Bill) in a Fish-bowl. From being 5 different spots, all served be the same wine-dealer, it went down to one. And this one is not very popular among Berliners any more due to much Easyjetset.

My reasoning for this phenomenon (at least for some time) working:
*It was new, a new concept in a world where you could choose yout of many cuisines
* Cost for input is way lower than the usual restaurant bill
* cooking is/can be fun (i do not get it, but can accept this weardness)
* at least in Berlin it was Self-service, so no service costs
* aahh, and the rents in Berlin, you know …
= cheap input/marginal cost by an order of magnitude compared to the typical bill, so even with someone only paying 20%, it is a way of not loosing money, if you think cooking is fun

And there it touches the Radiohead case (i know, food is a good, an online song is just an information, in principal they differ substantially in their economics)
Marginal costs here are indeed (close to) zero.
Recording was (hopefully) fun.

For example, the Met in NYC has a suggested ticket price of $20, and in my experience, the majority of visitors just pay $20. But the museum also loves to tout the “number of visitors” and for those people who would never pay $20, the voluntary nature of the price really boosts the Met’s attendance numbers.

And that’s why it works for Radiohead as well. The fixed cost is the same of producing the album, but there are people who will never pay the $16 or whatever it costs to buys a CD. Still, for Radiohead, there is some value in “selling” millions of albums, even if a big chunk of those sales are for pennies.

Radiohead gets more airplay the more albums it sells, which leads to more people coming to their concerts, which is probably where they make their money anyway.

The Met touts its total number of visitors when competing for government funds or grants from various charitable organizations.

There are tons of examples of Free working really, really well, like, for example This American Life.

When my wife and I got engaged, my mother-in-law-to-be made it clear we could have as big a wedding as we wanted. I said that made no sense. She should give us the money, and say we had to have a wedding with at least these various relatives on the guest list. Why, she asks? Because in her scenario, I’ll invite people as long as the value of their wedding gift is greater than zero. In my scenario, it’s about marginal cost of guest versus marginal utility of gift. (Yes, she still let me wed her daughter…)

However, it’s a similar situation for pay-what-you-want eating. Eliminate marginal prices, or hide marginal prices, and consumption will rise. That first serving of salmon has high marginal price, in your mind, but also high marginal utility. The seventh order has the same marginal price, but very low marginal utility.

Pay-what-you-want is (not exactly but close to) the dual of eat-what-you-want: the joyous American buffet phenomenon. What you get is really, really bad food. But, lots of it.

Maybe the only workable scenario involves rationing? Fixed menu, everyone gets the same food, and not particularly much of it. That would select to individuals with the highest marginal utility based on what’s being served, and therefore highest willingness to pay.

A franchise restaurant in St Louis has done this in one locale in a upper scale business district, but near to a county jail. Noticeable changes to the types of people frequenting the place have occurred. Other businesses are thinking about moving away.

What happens when Panera decides this cannot continue, or worse, they let that store continue to lose money regardless. Isn’t this an Antitrust violation? Using market power in other regions to depress prices in one?

It might be different if it was only a one store operation, but they have hundreds of them and this is the only one doing it. By the way, this is one of the original Panera’s, or as they once were called, St. Louis Bread Co.